Open AccessCost of capital adjusted for governance risk through a multiplicative model of expected returns
Author(s) -
Rodolfo Apreda
Publication year - 2011
Publication title -
risk governance and control: financial markets and institutions
Language(s) - English
Resource type - Journals
eISSN - 2077-4303
pISSN - 2077-429X
DOI - 10.22495/rgcv1i1art1
Subject(s) - weighted average cost of capital , cost of capital , economics , multiplicative function , capital (architecture) , marginal cost of capital schedule , return on capital , corporate governance , risk adjusted return on capital , capital adequacy ratio , debt , econometrics , economic capital , capital structure , microeconomics , actuarial science , capital formation , financial capital , mathematics , finance , profit (economics) , mathematical analysis , archaeology , history
This paper sets forth another contribution to the long standing debate over cost of capital, firstly by introducing a multiplicative model that translates the inner structure of the weighted average cost of capital rate and, secondly, adjusting such rate for governance risk. The conventional wisdom states that the cost of capital may be figured out by means of a weighted average of debt and capital. But this is a linear approximation only, which may bring about miscalculations, whereas the multiplicative model not only takes account of that linear approximation but also the joint outcome of expected costs of debt and stock, and their proportions in the capital structure. And finally, we factor into the cost of capital expression a rate of governance risk.